Emerging Markets Strategy

A Brief Note on Oil

Yesterday the US Senate & Congress voted to override President Obama's veto, and allow Americans to sue other governments―including the Saudi―for any alleged role in supporting terrorist attacks in the US.Who wants to take chances with America's complex web of rules and regulations?The Saudi government will almost certainly liquidate most of its US$ denominated assets and invest into gold and a few other currencies.

Other sovereign wealth funds throughout the middle east (ADIA, QIA, KIA, to name a few) will also shift some of their assets from US$ into other currencies.

Saudi Arabia now needs new powerful partners. That means Russia and possibly China. That also means better relations with Iran, however hard it is.

The problem is that America's Net International Investment Position is at around minus $8.0 trillion ($24 T of assets and $32 T of Liabilities). If foreigners reduce some of their exposure to US assets―say by 10%―that will imply more than US$ 3.0 trillion.

Given the precarious condition of most banks and hedge funds, who would be buying these assets? This liquidity might even get pulled out of various asset managers located in the US. These asset managers will know that Middle East is liquidating so they will most likely start shorting various stocks.

Bottom line:

Saudi Arabia—and GCC in general—now has no choice but to build a closer relationship with Russia and China. This will make it easier to stabilize oil prices in the $50 to $60 range. It is also a net positive for gold.

US$ denominated assets are now exposed to Middle East pulling out some of its investments.

US Treasury prices will be protected by the Fed but the US$ could depreciate by 5% to 10% between now and year-end. We will discuss some of these points in greater detail in our regular Global Investment Strategy report.

Major US banks have big businesses in middle east. This is now a risk. Overweight Canadian banks at the expense of US banks. People often forget that the market capitalization of Royal Bank of Canada is at around US$ 90 bn, which is much bigger than that of Goldman Sachs or Barclays. See our Special Report on US vs Canadian banks here.